Why You Should Do Technical Due Diligence Before Investing

Because we are a strategic development agency who specializes in building custom software platforms for our clients, we frequently get the opportunity to participate in some interesting projects and conversations related to technology and business.

One of the more interesting things we get asked to do is participate in technical due diligence by our investor friends. Generally this happens when they have given a term sheet for an investment, and both parties are looking to close the deal within 30-45 days. Although our part is small in the bigger picture of due diligence, the technical aspects are often the most challenging for investors purely due to lack of knowledge and experience in the field.

Smart investors know they don’t know what they don’t know and work with companies like ours to help shed some light on the technical aspects of their potential investments. Forbes even suggests that technical due diligence is the second most important thing to do during due diligence.

What is being looked for?

What’s most interesting about this process is that every scenario is unique. In some cases investors are simply looking for confirmation that what has been described by the investee is actually there. Do they have a product that does X, Y, and Z? In others, they want to understand the scalability of the application. What happens when they throw fuel on this fire in the form of an investment and see a 10x customer increase?

There are a few things that tend to be consistent no matter the investor or type of business.

What are the strengths and weaknesses of the existing team?

What technical roles will the team need as the company continues to grow?

Does the company have appropriate ownership of their “special sauce”?

Has the team implemented appropriate processes for things like project management, source control, and developer churn?

One of the most important things for us to do with these technical due diligence audits is not actually talking with the technical people. It’s talking with the investor to understand what they are looking to better understand, and discussing with the company what their 3, 5 and 10 years plans are currently.

What are we asked to deliver?

Generally speaking, technical due diligence is not a code review. A code review can certainly be a part of technical due diligence, but for the most part, it focuses on the team’s abilities, overall architecture, and any liabilities that might be there.

As we talk with members of the team, we try to understand the finer details of an application, how its various systems work, and what trials and tribulations the developers went through while building it. You would be amazed at some of the things we get to hear. Especially with applications that span a variety of core technologies, or are 10+ years old. (Yes, it’s not just startups that get investment dollars!).

Ultimately, what we try to deliver to the investors that approach us is an overview of what we would do if we were brought in as CTO tomorrow, to get the company to where they want it to be in 3, 5, or 10 years. Typically this will include things like:

Opinions on existing team members’ strengths and weaknesses

Product roadmap defining high level features and timelines

A hardware and software technology summary

Identifying key risks related to technology

Recommended actions to reduce risk

Although it’s easy to assume that something like this would be very black and white, it absolutely isn’t. We participate in technical due diligence to help acquire and summarize information. It’s impossible for us to understand multiple years of application and company evolution in a few short meetings. It’s a very subjective and human focused exercise, and simply plays a part in the overall process of general due diligence.

Whether you’re with an investment firm, or you’re in the process of raising a round and wanted better understand what to expect, I hope this post helped clarify how we view technical due diligence, and answered some questions for you.

If you’d like to talk more about how we could help your firm with your next deal, shoot me an email at levi@wewritecode.com.

As always, we really enjoy getting feedback and love having conversations. Ping us in the comments below, or on Twitter at @wewritecode.